Credit Where Credit is Due

This week, in a speech before the London School of Economics, Fed Chairman
Ben Bernanke offered a perverse economic theory in his quest to gather support
for never-ending Wall Street bailouts; "This disparate treatment, unappealing
as it is, appears unavoidable. Our economic system is critically dependent
on the free flow of credit, and the consequences for the broader economy of
financial instability are thus powerful and quickly felt." In other words,
credit is the lifeblood of our economy, and the continued operation of credit
providers is an issue of national security.

In truth, not all economies run on credit. But over the last decade, the United
States became a bubble economy that needed unlimited credit to keep from collapsing.
In a legitimate economy, it is not credit that fuels spending and investment,
but simply income and savings. It's too bad our Fed chairman does not understand
the difference.

That American families now routinely rely on credit to make every-day purchases
is a habit that needs to be broken and not encouraged. What we need in America
is more restraint and less indulgence. For example, Americans in the current
economy should not go into debt to buy new cars. Given the level of debt that
weighs down the typical family, Americans should defer such purchases until
they have paid down existing debt, or replenished their savings to the point
where they can afford to pay cash. Until that time, Americans should continue
driving their old cars. In the meantime, the untapped savings could be made
available to local businesses that would use it to finance badly needed capital
investments.

But such a drastic reversal in financial culture represents the kind of change
that no one in the outgoing or incoming Administrations appears willing to
consider. By providing perpetual support to lenders who have bankrupted themselves
through bad loans, the government merely guarantees that bad economic behavior
will continue.

Credit is indeed vital to an economy, but it does not constitute an economy
within itself. The important thing to remember is that credit is scarce, and
is limited by the stock of savings. Savings loaned to one individual is not
available to be loaned to another until it is repaid. If it is never repaid,
the savings are lost. Loans to consumers not only crowd out more productive
loans that might have been made to business, but they have a far greater likelihood
of ending in default. In addition, while business loans increase our capital
stock and lead to greater productivity, loans made to consumers are merely
spent, and do not create conditions that will make repayment easier. When businesses
borrow to fund capital investments, the extra cash flows that result are used
to repay the loans. When individuals borrow to spend, loans can only be repaid
out of reduced future consumption.

One of the reasons we are in such dire straits is that consumers have already
borrowed and spent too much. Many did so based on the false belief that ever-appreciating
real estate would ultimately provide the means to repay their debts and finance
their lifestyles. Now that reality has finally set in, why should the spending
spree continue? The fact that a GDP comprised of 70 percent of consumption
is currently contracting should not surprise anyone. In fact, such a contraction
is long overdue and the government should not do anything to interfere.

In trying to perpetuate the illusion, the government wants to revive the spending
spree that has led us to this disaster. But how can such actions possibly help?
How will more debt improve the economy? Wouldn't our circumstances be vastly
improved if we paid off some of our debts and replenished our savings? Wouldn't
we be in better shape if instead of buying more stuff we concentrated on producing
it?

The unpleasant reality is that years of bad monetary and fiscal policy have
over encumbered our economy with debt and undermined our industrial capacity.
The sooner we can begin to repair the damages, the sooner we can right the
ship. If instead we merely administer more of the same, the ship will sink
in a sea of inflation.

For a more in depth analysis of our financial problems and the inherent dangers
they pose for the U.S. economy and U.S. dollar, read my just released book "The
Little Book of Bull Moves in Bear Markets." Click here to
order your copy now.

For an updated look at my investment strategy order a copy of my new book "Crash
Proof: How to Profit from the Coming Economic Collapse." Click here to
order a copy today.

Mr. Schiff is one of the few non-biased investment advisors
(not committed solely to the short side of the market) to have correctly called
the current bear market before it began and to have positioned his clients
accordingly. As a result of his accurate forecasts on the U.S. stock market,
commodities, gold and the dollar, he is becoming increasingly more renowned.
He has been quoted in many of the nations leading newspapers, including The
Wall Street Journal, Barron's, Investor's Business Daily, The Financial Times,
The New York Times, The Los Angeles Times, The Washington Post, The Chicago
Tribune, The Dallas Morning News, The Miami Herald, The San Francisco Chronicle,
The Atlanta Journal-Constitution, The Arizona Republic, The Philadelphia Inquirer,
and the Christian Science Monitor, and has appeared on CNBC, CNNfn., and
Bloomberg. In addition, his views are frequently quoted locally in the Orange
County Register.

Mr. Schiff began his investment career as a financial consultant
with Shearson Lehman Brothers, after having earned a degree in finance and
accounting from U.C. Berkley in 1987. A financial professional for seventeen
years he joined Euro Pacific in 1996 and has served as its President since
January 2000. An expert on money, economic theory, and international investing,
he is a highly recommended broker by many of the nation's financial newsletters
and advisory services.